Ostensible Subcontractor Rule: Lessons Learned From SBA OHA

Avoiding affiliation under the SBA’s ostensible subcontractor rule can be difficult, especially since the ostensible subcontractor rule itself, 13 C.F.R. § 121.103(h)(4), does not provide many examples of the factors that may cause ostensible subcontractor affiliation.

A recent decision of the SBA Office of Hearings and Appeals, Size Appeal of InGenesis, Inc., SBA No. SIZ-5436 (2013), demonstrates that even when a proposed subcontractor will play a major role in the procurement, ostensible subcontractor affiliation may be avoided if the parties carefully structure their relationship.

The underlying facts of the InGenesis SBA size appeal were recounted in my previous post on the case’s interesting mentor-protege issue. As I wrote in that post, the SBA Area Office found InGenesis, a small prime contractor, affiliated with its subcontractor, STG International, Inc., under the ostensible subcontractor rule.

The SBA Area Office determined that STG was InGenesis’s ostensible subcontractor for a number of reasons, including: (1) STG was the incumbent for the same contract, but was now ineligible; (2) InGenesis proposed to hire a substantial number of STG’s incumbent employees; (3) InGenesis and STG failed to allocate discrete tasks between themselves in their teaming agreement; and (4) STG would provide key managerial employees.

InGenesis filed a size appeal with SBA OHA, arguing that it had not violated the ostensible subcontractor rule. SBA OHA agreed with InGenesis.

SBA OHA first wrote that InGenesis “is a well-established company with an extensive record or performing similar work of comparable magnitude.” SBA OHA noted that InGenesis “submitted five past performance references, only one of which involved” STG. Thus, InGenesis “was awarded the contract on its own performance record, which the procuring agency found sufficient to meet the contractual requirements.”

Next, SBA OHA found that InGenesis was not relying solely on incumbent employees to perform the contract. In fact, the incumbent contract had a number of vacant positions, which InGenesis would be required to fill from outside sources.

Moreover, although InGenesis intended to hire a number of incumbent employees, InGenesis “will use a detailed vetting process to evaluate, and negotiate, with employees individually.” SBA OHA explained that especially given the “first refusal” rights set forth in Executive Order 13,495, “it is not problematic for a prime contractor to hire a subcontractor’s non-managerial workforce, provided that the personnel are reviewed individually rather than unilaterally transferred or hired en masse.”

SBA OHA agreed that the parties had not allocated “discrete tasks” among themselves. However, the solicitation in question called for the provision of medical staffing services at various sites around the country. Rather than dividing the work by labor category or task, InGenesis and STG had agreed to divide the work by site. SBA OHA held that this arrangement “does reflect a clear and reasonable division of responsibilities . . . given the limitations of the contract structure.”

SBA OHA next wrote that STG’s status as the incumbent contractor “leads to heightened scrutiny of the arrangement,” but that subcontracting to an incumbent “is not a per se violation.” “Thus,” SBA OHA stated, “[t]he mere fact that [STG] is the incumbent contractor cannot establish unusual reliance.”

Finally, SBA OHA held that STG’s provision of two key employees, the Deputy Project Manager and a Senior Recruiter, did not make STG an ostensible subcontractor. Citing prior SBA OHA size appeal decisions, SBA OHA wrote, “when a prime contractor proposes subcontractor employees as key personnel, but those subcontractor employees are clearly subordinate to the prime contractor’s own employees, there is no violation of the ostensible subcontractor rule.” In this case, InGenesis’s proposal made clear that the Deputy Project Manager and Senior Recruiter would report to InGenesis’s Project Manager.

In sum, although the case involved many potential indicia of ostensible subcontractor affiliation, SBA OHA found that InGenesis and STG had successfully structured their relationship so as to avoid affiliation. SBA OHA granted InGenesis’s size appeal.

For small government contractors, there are important lessons to be drawn from the InGenesis case. Of course, whenever possible, avoiding potential indicia of affiliation is always the best practice. But when ostensible subcontractor risk factors do exist, structuring the relationship carefully may help the parties avoid a successful size protest.

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